While at first glance Yahoo!’s P/E ratio looks very high at 48, it is necessary to take Yahoo!’s cash and strong investment portfolio into consideration. This investment portfolio includes a 34% equity stake in Yahoo! Japan, worth between $6 and $7 per Yahoo! share, as well a stake in Chinese internet company Alibaba worth about a $1 per share. Add almost another $2 per share of cash on hand and you get nearly $10 per share in cash or equity stakes.
To better understand the Street's current valuation of Yahoo!’s we can knock $10 off the current share price of $23 and determine that Yahoo!’s business is currently valued at $13 per share outstanding. This adjustment will greatly effect all of Yahoo!’s valuation ratios. Their forward P/E ratio falls from 39 to 20, compared to 32 for Google. Their expected Price to Earnings Growth ratio falls from 2 to 0.8, much lower than Google’s (GOOG) PEG ratio of 1.1.
While shares of Google should trade at a premium to Yahoo!, the difference between their forward P/E ratios, 32 and 20 respectively, is too great. Following another disappointing quarterly report, shares have been driven low enough that Yahoo! now looks like a value play relative to their peers in the volatile internet sector. This should guard against further downside in the stock. Shares should have downside of $22, guarded by the ratios discussed earlier and a new $3 billion buyback announced just last week.
Both analysts and management have lowered their predictions to levels where future surprises to the upside are much more likely. Not withstanding a downturn in the market before the end of Q4, the only way shares of Yahoo! should see lower than $22 is if management feels the heat to acquire and overpays for a major web property, most likely Facebook, after Google’s highly publicized acquisition of YouTube for $1.65 billion.
Yahoo! announced that they have started rolling out their long anticipated upgrade to their search marketing platform, which is expected to help Yahoo! better compete with Google for advertisement revenue. Yahoo! continues to enrich their user experience with widespread beta roll outs of their new mail service, a much improved homepage, and improvements to their popular Finance site. They have also been quietly strengthening their video offerings after purchasing video sharing site JumpCut and video advertisement firm AdInterax.
The combination of these events may be what the company needs to get some momentum behind them once again, and could very reasonably lead to an upside surprise on both the top and bottom lines. After falling more than 40% this year, it appears that a bottom may finally be in place for Yahoo!.
Disclosure: The Marley Group does not have a position in Yahoo!.
YHOO 1-yr. chart